Homebuilder Bonds Recover From Subprime Losses: Credit Markets

April 14 (Bloomberg) — U.S. homebuilder bonds have recovered to levels last seen before credit markets seized up as investors gain confidence that the economic recovery is strong enough to prevent borrowers from defaulting.

Yields fell to within 6.21 percentage points of Treasuries as of yesterday, the narrowest since August 2007 when rising subprime-mortgage defaults sparked $1.8 trillion in losses and writedowns at the world’s biggest financial institutions, according to Bank of America Merrill Lynch’s U.S. High-Yield, Homebuilders/Real Estate index. Hovnanian Enterprises Inc. debt surged 11 percent to a more than two-year high since New Jersey’s largest homebuilder posted its first profit since 2006 on March 2.

“There is no question that the worst is over for homebuilders,” said Christopher Towle, who helps oversee $47 billion in fixed-income assets, including Hovnanian debt, as a partner at Lord Abbett & Co. in Jersey City, New Jersey. “The numbers show it.”

Investors are growing more bullish on homebuilders as the economy recovers from the worst recession since the 1930s, unemployment falls from a 17-year high and the Federal Reserve supports the housing market with record-low interest rates.

Home Affordability

An index that measures the ability of a family earning the median income to afford a home rose to 167 in the fourth quarter, about the highest level since records begin in 1986, according to data from the National Association of Realtors compiled by Bloomberg.

“It is hard to view this as anything but bullish,” Citigroup Inc. analysts led by Tom Fitzpatrick in New York said in an April 13 report. “There are good reasons to suspect some ‘brighter days’ are around the corner.”

Elsewhere in credit markets, Charter Communications Inc. sold $1.6 billion of senior notes due in 2018 and 2020 to refinance borrowings. Late payments on commercial mortgages bundled and sold as bonds posted the largest increase on record in March. GMAC Inc. sold bonds in euros for the first time in almost three years as investor demand for riskier debt cuts borrowing costs.

Proceeds from the sale by Charter, the St. Louis-based cable-television operator that emerged from bankruptcy last year, will be used to finance a tender offer for $800 million of the 8.75 percent senior notes due in 2013, and $770 million of 8.375 percent notes due in 2014, according to a statement.

Commercial Mortgage Debt

Delinquencies on commercial mortgage-backed securities rose 0.69 percentage point to 6.42 percent last month, according to Moody’s Investors Service. The amount of delinquent debt, comprising 343 loans, rose by $4.3 billion, the ratings company said in a statement. A $3 billion loan on the Stuyvesant Town- Peter Cooper Village apartment complex in New York, the largest loan in the commercial mortgage-backed bond market, had an “outsized impact,” the company said.

GMAC, the auto and home lender bailed out by the U.S., sold 1 billion euros ($1.4 billion) of five-year notes to yield 7.625 percent. The Detroit-based lender last tapped investors in Europe in May 2007.

The yield GMAC is paying on its new debt is comparable to the average yield of 7.42 percent investors demand of borrowers rated three levels higher, according to Bank of America Merrill Lynch index data. GMAC is graded six levels below investment- grade at B3 by Moody’s, and a step higher at B by Standard & Poor’s.

Credit-Default Swaps

The cost to protect against defaults on corporate bonds in the U.S. fell, with the Markit CDX North America Investment Grade Index declining 1 basis point to a mid-price of 82.6 basis points as of 4:56 p.m. in New York, according to Markit Group Ltd.

In London, the Markit iTraxx Europe index of 125 companies with investment-grade ratings rose 0.16 basis point to 76.5. Both indexes typically rise as investor confidence deteriorates and fall as it improves.

Credit-default swaps pay the buyer face value if a borrower fails to meet its obligations, less the value of the defaulted debt. A basis point equals $1,000 annually on a contract protecting $10 million of debt.

Homebuilder bonds have rallied every month since December 2008, when yield spreads on the debt reached a record high of 25.3 percentage points, according to the Bank of America Merrill Lynch index. Since the end of November 2008, the securities on average handed investors returns that are 33 percentage points higher than the 79 percent gain for U.S. high-yield, high-risk bonds.

Spreads for U.S. corporate bonds overall are at the lowest since November 2007, according to the Bank of America Merrill Lynch U.S. Corporate & High Yield index.

Hovnanian Bonds

Hovnanian’s 8.625 percent notes due in 2017 have climbed almost four-fold in price to 81.5 cents on the dollar since reaching a low of 21 cents in October 2008, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. The Red Bank, New Jersey-based homebuilder reported on March 2 its first profit since 2006 after recording a tax benefit designed to help companies weather the housing recession.

D.R. Horton Inc.’s 6.5 percent securities due in 2016 have climbed to 101 cents on the dollar since reaching a low of 55 cents in November 2008, Trace data show. In February, Fort Worth, Texas-based D.R. Horton, the second-largest U.S. homebuilder by revenue, reported its first quarterly profit since 2007.

Pulte Group Inc.’s 5.25 percent notes due in 2014 have climbed to 99.5 cents on the dollar since reaching a low of 65 cents in November 2008, Trace data show. Bloomfield Hills, Michigan-based Pulte, the largest U.S. homebuilder, posted its 13th straight quarterly loss in February.

Consumer Spending, Manufacturing

Homebuilders have been poised to benefit as the economy gains strength. The economy expanded “somewhat” across most of the U.S. in March as consumer spending and manufacturing improved, signaling the recovery is broadening without gaining much speed, the Fed said in its Beige Book business survey.

The economy expanded at a 5.6 percent annual rate in the final three months of 2009, led by inventory restocking. That pace probably slowed to 3 percent in the first quarter of 2010, according to the median estimate in a Bloomberg News survey of economists this month.

Housing Starts

While new housing starts are at about the lowest since at least 1959, the index of purchase agreements, or pending home sales, rose 8.2 percent, the second-biggest gain on record and the largest since October 2001, after a revised 7.8 percent drop in January, the National Association of Realtors said on April 5.

The Commerce Department will report March housing starts on April 16. Builders broke ground on 610,000 homes at an annual rate last month, up 6.1 percent from January’s 575,000 pace, according to the median estimate of 73 economists surveyed by Bloomberg.

Housing market prices on average have likely reached a floor and are rising, even as some regions may be in different stages of recovery, said Kenneth Fisher, who oversees $40 billion as chairman of Fisher Investments Inc. in Woodside, California.

Bondholder optimism contrasts with homebuilders themselves. The National Association of Home Builders is likely to report tomorrow that its index of builder confidence will rise to 16 this month from 15 in March, according to the median estimate of 47 economists surveyed by Bloomberg. While up from a record-low of 8 in January 2009, the index has been below 50 since April 2006, meaning most respondents view conditions as poor.

Homebuilder companies have saved cash by firing employees, cutting suppliers and by not building new homes, said Thomas Atteberry, who manages $5.5 billion in bonds at First Pacific Advisors in Los Angeles and shared Morningstar Inc.’s 2008 fixed-income manager of the year award with a colleague. “The easy money has been made,” Atteberry said in an interview. “Now they have to build more houses. I’m not sure we’re going to see a big housing recovery.”

To contact the reporters on this story: Bryan Keogh in London at bkeogh4@bloomberg.net; John Detrixhe in New York at jdetrixhe1@bloomberg.net; Kate Haywood in London at khaywood@bloomberg.net